Qualified dividend

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In the U.S. a qualified dividend is a type of dividend to which capital gains tax rates are applied. These tax rates are usually lower than regular income tax rates. In contrast, ordinary dividends that do not qualify for this tax preference are taxed at an individual's normal income tax rate. [1]

Qualified dividends were enacted in the The Jobs and Growth Tax Relief Reconciliation Act of 2003. The Tax Increase Prevention and Reconciliation Act of 2005, extended the low qualified dividend tax rates until the end of 2010. The Tax Relief Act enacted in December 2010 extended qualified dividends through 2012. The American Taxpayer Relief Act (ATRA) extended qualified dividends for the years beyond 2012.

Qualified dividends must meet the following requirements [1] :

  1. The dividend must have been paid by an American company or a qualifying foreign company.
  2. The dividends are not listed with the IRS as dividends that do not qualify.
  3. The required dividend holding period has been met. [footnotes 1]

Tax rates

Mutual fund distributions will be taxed according to the tax laws governing the investment over the holding period of the investment, which are subject to change. The actual tax imposed will depend upon each individual's tax rate and the timing of purchases and sales. The federal tax rates applicable to mutual fund distributions and investor sales of securities for the period 2013 onward are outlined below. Keep in mind that investment income may also be subject to state and local taxation.

  1. Short-term capital gains distributions are made from realized gains on securities held for one year or less. Short-term gains are taxed at ordinary income tax rates up to 39.6%. Mutual fund short-term gain distributions are included in a fund's ordinary dividend distribution; therefore, capital losses may not be subtracted from these distributions when computing taxes.
  2. Long-term capital gains distributions are made from realized gains on securities held for more than one year. Long-term gains are taxed at 0% for taxpayers in the 10% and 15% tax brackets, at 15% for taxpayers in the 25%, 28%, 33%, and 35% tax brackets, and at 20% in the 39,6% tax bracket. They are reported on tax Schedule D along with any other capital gains, and can be reduced by capital losses.
  3. Qualified dividends are the ordinary dividends [2] that are subject to the same tax rate that applies to long-term capital gains. They should be shown in box 1b of the Form 1099-DIV you receive.
  4. When you sell at a loss you will either offset capital gains which would have otherwise been taxed at your capital gains rate or you will offset income (up to $3,000 maximum per year) which would have otherwise been taxed at your marginal income tax rate, or both. If you offset capital gains that would have otherwise not been taxed at all (because your capital gains tax rate is 0%) then this part of the tax loss harvest may be an outright loss.
  5. The Affordable Care Act imposes a Medicare surcharge of 3.8% on all net investment income (NII) once the taxpayer's adjusted gross income exceeds $200,000 (single) or $250,000 (married); while this tax is not part of the income tax, it has the same effect on investors as a higher tax rate. The NII tax begins to apply to individuals falling in the 33% tax bracket. Thus the top effective marginal tax rate is 23.8% on qualified dividends and long-term gains, 43.4% on ordinary investment income.
Federal Income Tax Rates in 2013
Taxable income up to this level Tax rate
Single Married filing joint Head of Household Ordinary income Long-term gains and qualified dividends
$8,925 $17,850 $12,750 10% 0%
$36,250 $72,500 $48,600 15% 0%
$87,850 $146,400 $125,450 25% 15%
$183,250 $223,050 $203,150 28% 15%
$398,350 $398,350 $398,350 33% 15%
$400,000 $450,000 $425,000 35% 15%
above above above 39.6% 20%

In addition, there is a 3.8% Medicare tax rate on investment income in excess of an adjusted gross income of $200,000 ($250,000 for married filing jointly), and 0.9% on salary and self-employment income in excess of this level.


Federal Income Tax Rates in 2012
Taxable income up to this level Tax rate
Single Married filing joint Head of Household Ordinary income Long-term gains and qualified dividends
$8,700 $17,400 $12,400 10% 0%
$35,350 $70,700 $47,350 15% 0%
$85,650 $142,700 $122,300 25% 15%
$178,650 $217,450 $198,050 28% 15%
$388,350 $388,350 $388,350 33% 15%
above above above 35% 15%

In addition, there is a 3.8% Medicare tax rate on investment income in excess of an adjusted gross income of $200,000 ($250,000 for married filing jointly), and 0.9% on salary and self-employment income in excess of this level.


Qualified dividends are the ordinary dividends that are subject to the same rate that applies to net capital gains. They should be shown in box 1b of the Form 1099-DIV an investor receives from a brokerage firm or mutual fund company. The qualified dividend tax rates are 0%, 15%, and beginning in 2013, a 20% maximum tax.

Qualified dividends are subject to the 0% rate for taxpayers in the 10% and 15% tax brackets. For taxpayers in the 25%, 33% and 35% tax brackets, the tax rate on qualified dividends is 15%. For 2013 and beyond, a 20% rate applies if the regular tax rate is 39.6%.

For taxpayer's subject to the Net Investment Income (NII) tax, a 3.8% surtax for taxpayers whose adjusted gross income surpasses threshold limits,[footnotes 2] the qualifed dividend tax rate will increase to 18.8% or 23.8% depending on the marginal tax bracket.

The NNI tax threshold levels begin to effect taxpayers whose adjusted gross income falls in the 33% marginal tax bracket, and affects taxpayer's in the 35% and 39.6% marginal tax brackets.

Federal Capital Gains and Dividend Taxation in the United States from 2008 forward[3]
2008 - 2012 2013 -
Ordinary Income Tax Rate Short-term Capital Gains
Tax Rate
Long-term Capital Gains
Tax Rate
Ordinary Dividends
Tax Rate
Qualified Dividends
Tax Rate
Ordinary Income Tax Rate Short-term Capital Gains
Tax Rate
Long-term Capital Gains
Tax Rate
Ordinary Dividends
Tax Rate
Qualified Dividends
Tax Rate
Ordinary Dividends/Short-term gains with NII tax
Tax Rate
Qualified Dividends/Capital gains with NII tax
Tax Rate
10% 10% 0% 10% 0% 10% 10% 0% 10% 0%
15% 15% 0% 15% 0% 15% 15% 0% 15% 0%
25% 25% 15% 25% 15% 25% 25% 15% 25% 15%
28% 28% 15% 28% 15% 28% 28% 15% 28% 15%
33% 33% 15% 33% 15% 33% 33% 15% 33% 15% 36.8% 18.8%
35% 35% 15% 35% 15% 35% 35% 15% 35% 15% 38.8% 18.8%
39.6% 39.6% 20% 39.6% 20% 43.4% 23.8%

Notes

  1. For details on determining qualified dividend holding periods, refer to Fidelity: Qualified Dividends
  2. The threshold amounts triggering the NII tax are $250,000 for married filing jointly/ surviving spouse with dependents; $200,000 for single/head of household; and $125,000 for married filing separately. The threshold amounts are not indexed to inflation.

References

  1. 1.0 1.1 investopedia
  2. Fairmark says:

    A portion of your ordinary dividend may be nonqualified because it can include items like these:

    • Taxable interest. When a mutual fund receives taxable interest, the income gets paid out as a dividend. It's a dividend when it goes out of the mutual fund, but it wasn't a dividend when it came into the mutual fund, so it can't be a qualified dividend.
    • Nonqualified dividends. Your mutual fund may receive dividends that are nonqualified. For example, the mutual fund may sell shares just 35 days after buying them, but after receiving a dividend. The mutual fund has to hold the shares at least 61 days to have a qualified dividend. Any amount the mutual fund receives as a nonqualified dividend gets paid to you as a nonqualified dividend.
    • Short-term capital gain. When a mutual fund has a short-term capital gain, it pays this amount to the mutual fund shareholders as an ordinary dividend.
    • Holding mutual fund shares less than 61 days. You should also be aware that any dividend you receive on mutual fund shares held less than 61 days is a nonqualified dividend, even if the mutual fund reports that amount to you as a qualified dividend. You don't have to buy the shares 61 days before the dividend is paid, but the total amount of time you hold the shares (including time before and after the dividend) has to be at least 61 days.
  3. Almost all of the dividends distributed by Equity REITS come in the form of non-qualified dividends. Non-qualified dividends are taxed at marginal income tax rates.

  4. Federal Capital Gains Tax Rates, 1988-2011